memmel, you ask some tough and interesting questions, the one below being one of the most interesting:

"I'd be willing to give you a speculative move to say 50 and even 60 but why on earth did prices not collapse say two weeks ago?"

Let me turn the question around: Why did oil ever collapse from $147 at all?

If supply and demand had driven oil to that price, has the supply/demand situation already improved that much since then?

If supply and demand did not drive prices to that level, then why should we assume that supply and demand has anything to do with price now or in the near future?

Either way the jigsaw puzzle is missing a few pieces. We seem to be back to Matthew Simmons great riddle about what oil is actually worth. The range begins at the absolute bottom, the "lifting cost" plus transportation and refinery costs and goes all the way to the top, which would include the fear factor of war, fear of refinery or drilling accidents and failures and even fear of "running out", fear of currency collapse (making the oil worth more because currency is worth less, i.e., inflation)etc.

The above makes for a considerable range. In the recent past we have seen a range of roughly $20 to roughly $150. Have we left anything out? Ohhhh, that's right, as unpopular as the word is here on TOD we do have to count in those rowdy speculators! Notice that in the above calculation we have not had to resort to that old bugbear of real supply and demand yet! Surely it must have an effect?

Supply and demand does have an effect, but only after all the other factors have applied, unless we are in oil up to our eyebrows or down at near critically low level on production or oil in storage. At either of these extremes, or the perception that they may exist, supply and demand can then begin to overtake the other fear factors and in fact fuel them to even wider swings. It is amazing the power a few published graphs in souping up panic or euphoria, depending on their nature.

Now we are beginning to get a "sane" outlook for oil prices. The problem is of course that short term events or perceptions of events can drive swings wildly to one side or the other of the "sane price" in the short haul, making short term projection very difficult and easily manipulated by the media and by the large traders who can hurl massive amounts of money into and out of the oil market.

We know, even here at TOD, that the world is not "running out" of oil this year. Or next year, or the next year after that, in fact we can safely assume there will be oil 5 years from now. Fortunes can be made and lost in 5 years.

An old joke: The man asks the woman if she would go to bed with him for a million dollars and she says "I would have to think about it, but I probably would"...he then asks her "would you go to bed with me for $100?", and she says "what kind of a woman do you think I am!" Punchline: "We've already established that, now we are just arguing about the price." With oil, we are not arguing about it's existence, but simply about it's price.

If we take the top and bottom "fear and euphoria" price out by discounting the risks at the margins, we are arguing about how wide those discounted margins would be. How wide should they be, and is there a mathematical way to predict this?

It is very hard to do, because we are discounting risk factors that cannot be easily predicted. A coup in Saudi Arabia would of course exceed normal risk factors, while an assured North Sea sized find of easily extracted oil would exceed risk factors to the other side. Good news and bad news both pose a risk to the investor/speculator, and the variables become quickly unmanagable. What effect would a dollar collapse have? What about a full blown Sunni/Shi'ite civil war in southern Iraq as the American forces try to leave? These are real world forces that are possible in occurance but almost impossible to predict, and there is virtually no way to time them. They could happen in only a matter of weeks, or never.

We can discount the liklihood of finding a new easily drilled North Sea, or of "running out" of oil, but beside that all bets are just that, bets. This is why oil speculation is still a risky game for all but the big professionals, and is not risk free even for them.

If we take an arbitrary figure of some 20% discounted between the all time historic ranges, you should end up with a number somewhere between just below $30 on the bottom side and just below $130 on the high side. If the move begins to occur out to those extremes, you will have some warning if you are alert (but not much) and that is IF you are alert. Most people are not, so you will still be in the advance guard IF you have the nerve to act on what you know. Most people do not. So that is two big IF's on top of all the other risk.

Of course you can hedge: If you decide to buy a new car, have the money to pay for the fuel for the expected life of the car (at your high end expected price as discussed above) already sitting in a CD at the credit union. Don't laugh, I have known old guys who planned in just such a fashion. if the worst never happened, they still had the cash plus interest. Or have some dividend paying stock in the energy industry paying for the fuel you use. If the price of oil goes up, the stock and divident holds or rises to cover the added expense of the fuel you purchase. It is really not that hard to hedge and you don't have to deal with the sludge that is the "hedge fund" firms to do it. the key is actually being able to afford what you buy. It's radical, but it can be done.

So, how much is oil going to be by Christmas? Better question: who the f**k cares. If need be, someone translate the prior sentence for our European friends. Thanks.

RC

Oil inventory may have dropped just because oil prices were high, not because of of a lack of supply. This is the reason why you don't see a whole lot full of Ferraris at dealerships, they are just too expensive to keep in inventory!!!

My supply demand spreadsheet (calibrated from the previous year) estimated that the price of oil last year should have averaged around $90 per barrel, much lower than the peak of $147/bbl. When I dummied down supply such that the elasticity of demand would have been correlated with $147/bbl, 2.5 million barrles per day of crude oil would have to have disappeared from the crude oil supply, this is separate from the 3.5 million barrel per day of assumed depletion and new oil fields estimated to come on line from the Megaproject data base, and it ignores the additional crude oil which would have come on line from the old depleted oil fields that were then economic to start up again. I did not find any evidence of a large increase in depletion like that, did you? Also, others who conducted similar analyses (Skrebowski, Erickson) showed similar price behavior.

The real smoking gun for me is that was trying to figure out why the price of crude oil was going up and down during the beginning half of 2008, and it seemed always correlated to the value of the dollar. Most all commodities increase in value as well lockstep with the declining dollar. On the other hand, when Nigeria's oil supply decreased because of a rebel attack, the price of oil did not respond to such incidents, and in some cases, the price of oil went down if the dollar strengthened in value.

All this strongly suggests (greater then 90% certaintly in my mind) that the run up in crude oil prices in 2008 was almost all due to speculators investing in oil as a hedge against the falling dollar. We are seeing similar behavior again this year.

Now, I do admit that there was an oil supply issue in the background which is why my spreadsheet was estimating that the price of oil should have been $90 per barrel. It is just that I am convinced that the very fast run up in oil prices last year was not a supply shortfall driven artifact.

Retsel